The Insolvent Investor

Investing and economics – it isn’t easy.

Archive for the ‘Investing and Economics’ Category

On the financial markets bailout

Posted by Warren on October 22, 2008

I don’t think it’s going to be enough to get the economy back on its feet:


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The American Consumer and the Financial Crisis

Posted by Warren on October 12, 2008

Wall Street and Washington have taken a lot of blame for the financial crisis, but less attention has been paid to the role of the American consumer:

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The coming recession (depression?) in Silicon Valley

Posted by Warren on October 1, 2008

Look out below

Economic road sign spotted on 280...

I realize, as an entrepreneur, I am supposed to be unendingly optimistic. But lately, optimism in Silicon Valley has begun to seem increasingly Pollyannaish. It’s become harder and harder to attend networking dinners and listen to VCs, bloggers, Web 2.0 CEOs, Facebook app mavens, and iPhone app Illuminati prattle on about how they are going to change the world. I’m sure one or two of them will. But the majority of the other X-thousand sanguine entrepreneurs will likely soon be out of business.

Living in Silicon Valley, gilded by the riches of Google, Apple, Cisco, Facebook (?!), and the oracular VCs of Sand Hill Road, it’s hard not to feel a little insulated from the rest of the world. But Silicon Valley most certainly is not. Economic downturns (or depressions, as this current downturn may turn out to be) often start in one sector and spread to others. In this particular downturn, the poor felt it first – their real incomes had scarcely increased in the last decade and with the rising cost of fuel and food, they were hurting last year. Then it was the real estate sector, long the darling of the American dream (invest in a house and you will surely be rich one day!). Then it was the financial sector – greed manifested in too much leverage and too little diligence – whose collapse is coming to a head as I write this.

Next, will be the middle and upper-class consumers. The middle class-consumer – the engine of the American economy – is levered to their ears (mortgage and credit card debt) and simply has no more money to spend. The upper class consumer still has capital, but they will no longer be buying the same volume of luxury cars and superfluous gadgets that once adorned their palatial homes.

And that leaves us with technology. With middle and upper income consumers drowning in real estate and stock market losses, there just will not be much money left over to purchase yet another iPod whose batteries no longer completely recharge, or buy that extra pair of designer shoes online that they found via a Google AdWord. Sure ad spending is moving online at a quickening pace, but if consumer spending drops quickly enough, it will not matter.  People will be spending significantly less money for an indefinite period of time. This will cause a huge pull-back in brand advertising, and a somewhat smaller, but still potentially large pull-back in pay-per-click advertising (people will be simply buying less stuff, which could mean lower click-through rates or lower sales conversation rates or less total money spent).

So what does this mean for start-ups in Silicon Valley? I think there are three primary concerns:

1) If you have an ad-based business model, it may become a lot less profitable soon. Additional revenue sources may become a necessity.

2) If you need to raise more money it may already be too late. A and B rounds are getting harder to close and valuations are dropping quickly (full-rachet, anyone?). Seed financing and later stage venture money may hold up longer, but in general, Silicon Valley investors move in a herd. What to do? Reduce your burn and focus on making money.

3) If you thought someone might buy you, now they probably won’t. With equity valuation dropping, the cost of capital for Silicon Valley corporations like Google, Yahoo, and Cisco will be going up. Coupled with their own internal growth problems (no more free dinners at Google), there will most likely be many fewer acquisitions.

And for those who think, “this too will pass quickly, like 2001 and 2002,” it might be worth taking a look at Japan in the early 1990s. They faced similar challenges to the US and the Nikkei is still less than a third of 1990 levels.

Am I being too gloomy? Perhaps. But there is no doubt Silicon Valley is going to take a pounding.

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On the cause and future of the financial markets crisis

Posted by Warren on September 16, 2008

Another piece for BlogCritics – it’s a bit bleak, but I believe it.

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The only underpriced asset is risk (or, where to invest in difficult times)

Posted by Warren on September 16, 2008

Last spring, a friend of mine at a hedge fund was complaining that he couldn’t find any undervalued assets. Everything was over-priced – stocks, bonds, real estate, commodities, high-yield bonds, the dollar, the Yuan, gold, emerging markets equity, emerging markets debt, timber. Every imaginable asset class was fully priced.  That is, except for one – risk.

The investing world learned this the hard way in 2007, and I believe they will continue to learn this through the remainder of 2008. If I had to make a prediction where the next bubble may lie, it would be in the market for risk. The cost of debt and equity will continue to rise, and investors will demand premiums for risk no less ridiculous than the premiums paid for dot com stocks in 1999.

My advice, get in on the bull market for risk! Go forth and buy straddles, have your bankers structure synthetics, do whatever you need to. But do not forget, risk is still the underpriced asset.

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On the real size of the US deficit

Posted by Warren on September 8, 2008

It’s scary big.

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Barack’s economic advisor is a reason to vote Obama

Posted by Warren on August 18, 2008

Hard not to trust him....

The US economy is rightly the top priority of most Americans in the 2008 presidential election. Without a strong economy it makes it hard for the US to improve its health care system, fix education, and maintain a robust foreign policy that will encourage peace and prosperity in the rest of the world.

Given the above, what is a thoughtful voter to do? This is beyond the scope of my little blog, but if I were voting strictly on the economy I would vote for Barack Obama. Why Barack? One man – his senior economic advisor Austan Goolsbee. Mr. Goolsbee is an impressive young economist who shares the same practical economic policy principles as centrist economic luminaries such as Greg Mankiw, but Goolsbee also possesses the charisma of a television personality. If you missed it, he recently made an appearance on Charlie Rose.

While Barack Obama spent a lot of time during the primaries criticizing NAFTA and talking about raising taxes, he is no left wing tax and spend liberal. To be sure, Barack often sounds like a populist-pandering to the audience to which he is speaking-but his appointment of and friendship with Goolsbee tells me otherwise. A vote for Barack Obama is a vote for a stronger US economy.

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Our Central Bankers are Failing Us

Posted by Warren on August 9, 2008

Beranke is about to let the monsters out

Beranke about to let the monsters out

A good article in today’s Economist describes how central bankers in the US and Europe may be risking their credibility as effective inflation fighters – arguably their most important function. Asset bubbles, high commodity prices, and a low savings rate have led the US, Europe and Japan into the current difficult economic situation. While Central Bankers have done well to squelch financial crisis so far by propping up banks (Northern Rock), mortgage lenders (Freddie, Fannie), and investment banks (Bear Sterns), those actions will only serve to incent managers to continue to take more risks, and in conjunction with the current low interest-rate environment, will do little to curb inflation brought on by high commodity prices. We’re in for some bumpy economic times for a long time to come.

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Fiscal stimulus doesn’t work

Posted by Warren on August 7, 2008

Our tax dollars

Our tax dollars

Harvard economist Marty Feldstein wrote a great piece in the

Wall Street Journal today about why fiscal stimulus (including the last rebate and Obama’s plan) does not work.

Marty, as usual, is right on the money. Fiscal stimulus suffers from a significant time lag to its impact on the economy (if there is one), stimulus checks are often saved not spent, and stimulus can be inflationary. And so the doom and gloom for the US economy continues….

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Small cap biotech stocks are risky but undervalued

Posted by Warren on August 5, 2008

Biotech companies are not immune to the business cycle. Although many make life saving drugs that are consumed regardless of economic conditions, many others make products that are discretionary (eg, Botox). Also, many smaller biotech companies rely on larger pharmaceutical companies to license their drugs and even purchase their entire companies. Big Pharma’s ability to do this often can be compromised if their stock prices are depressed (as happens to almost all equities in economic slowdowns).

Despite this, many small biotech companies could be seen as underpriced because many investment analysts do not understand them and are risk adverse.

One such example of a company is Infinity Pharmaceuticals. I own shares in this company because I think it is underpriced relative to the expected value of its drug pipeline. Moreover, it is an early stage biotech company so very few analysts cover the stock and very future institutional investors are holders. I anticipate within the next 2 years a large pharmaceutical company will offer to buy them at several times their current value. However, there is also a greater than 50% chance one or more of their drugs will fail and the stock will become worth a faction of its current market capitalization. I recently a post on the company on SiteJabber.

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